Adam Smith's Lost Legacy

GavinK9 AT gmail DOT com

Monday, July 30, 2012

Adam Smith and GDP/GNP Analysis

Evan Soltas, a student at Princeton University, posts on his Blog HERE

“A New Generation of Econ Data?”

“In
the beginning, there was no economics data. Greats like Adam Smith wrote
treatises on political economy in the equivalent of near-total darkness. Later
economists such as Vilfredo Pareto and Alfred Marshall introduced mathematical
foundations, changing the direction of what had been a very qualitative
philosophical endeavor. After the Great Depression, Paul Samuelson and John
Hicks consolidated Keynes' work into the modern field of macroeconomics -- and
they received critical (and I might argue significantly under-appreciated)
support from econometricians and statisticians like Simon Kuznets.”

Comment

I
found this article by Evan Soltas interesting, though my comments are directed at this first
paragraph.

I
am not so sure that Adam Smith and contemporaries wrote “in the equivalent of
near-total darkness”, though I get what he means.

There
were no systematic treatises on political economy on hand; there was quite a
large pamphlet-size literature on economic subjects written in the 17th-18th
centuries, of which Yale (I think) has assembled over 4,000 pieces available
(now) for consultation, most of which were not known to Smith (and probably not known en masse to others. In 1767, Sir John Stuart, a recently
returned Jacobite exile, published his 2-volume, Principles of Political Economy,
which we know Smith had read, but he did not mention it in Wealth Of Nations.* Two further sources can be traced from
Smith. First was Cantillon’s
privately circulated thesis (1735), mentioned by Smith; the other was Turgot’s
more substantial anonymous publication, considered by some scholars to be
previous to WN.**

The
mathematisation of political economy was of mixed blessing. It cleared up the fuzziness of language
at an eventual cost of removing political economy from contact with
reality. Statistics was also a new
subject in the late 18th century (see my history of
statistics: “An Invitation to Statistics”, Wiley, 1984 – Amazon now sells it for 1c [!]).

The
History of economics may be bit like the history of astronomy; both subjects
started with observations melded with a few old concepts; then the concepts took over,
and the real world made to fit the new concepts.

In
the case of astronomy this hindered knowledge as the religious concepts of the
earth and the heavens circulating the sun ruled supreme as the word of God, until ever improving ongoing
observations challenged the concepts, which, once they proved overwhelming, rescued astronomy from rigid religious concepts.

Economics
is going through a stage of the dominance of new concepts, such as theories of homo
Economicus with rational humans making rational choices beautifully accounted
for by pure maths, which had overwhelmed the political economy of Smith's times. Maths has taken over; quantitative work
– including statistics of behaviour and tests of rational concepts in
behavioural games - have kept the debate about the real world alive.

In
this process, Smith’s ideas are still worth studying, provided we stick to what
he was writing and not to how modern ideas have allegedly made them redundant
historically. Take, for example,
Smith’s limited and primitive ideas on productive/unproductive labour. In modern GNP work his distinction is
disregarded as not precise enough.
Yet it keeps rising in modern dialogues. Pure government expenditure does not have the same productive
effect of market expenditure; the former has to be replaced pound for pound
from taxation and borrowing. Market activity reproduces itself pound for pound, plus additional pounds in the form of
profits. Smith was drawing this
distinction which exists though it was not clear enough theoretically for quantification.

Smith
also was inconsistent and the margins were vague.
Government expenditure was not unproductive when it purchases goods and
services from private enterprises.
Take defence expenditures (the first duty of government). Defence suppliers receive revenues from
the government, and reproduce the costs of their defence services – they also make a
profit and pay their suppliers and the wages of their employees to stay in business. The defence departments pay their
soldiers and seamen, which is unproductive in Smith's sense as these forces do not generate a
revenue to cover their costs and the costs of their materials used in
defence, but they consume through markets, adding to local revenues. Much has been written and studied on local defence-sourced multipliers.

Likewise
with his example of consumers spending money on wines and their dinners in
restaurants, hotels and theatre goers, seeking legal advice, and such
like. Consumers of these services do not
reproduce their expenditures – they consume them. However the restaurants, hotels, theatres, puppeteers,
lawyers – even Brothel keepers and the courtesans – are productive in Smith's sense. They receive incomes that reproduce
their costs plus profits.

It
is a muddle, true, as expressed in WN, but the point remains; those activities
that recover their costs plus a profit add to economic activity and those than
do not, do not. These last are the
necessary costs of an economy functioning; those that do recover their costs
plus a profit are the necessary revenues that enable an economy to continue and
to grow. It is not a GNP analysis as shown in the statistics. Smith's distinction is still worth understanding,
as are GNP/GDP statistics, and their derivation.

*Smith in
correspondence to Adam Ferguson.
Stuart made a case for mercantile tariffs and such like, and while Smith
knew him socially, they did not agree (politely). He told Ferguson that he had “confuted” all Stuart’s
arguments in WN without mentioning “his” (Stuart’s) name.

(It was considered
impolite in 18th-19th century literature to criticise
living persons by name – first and last letters with dashes in between were sometimes used instead Smith just left Stuart's name out, perhaps to save embarrassing friend).

* Turgot was a
senior state official in the French King’s service and was near paranoid about anyone mentioning his name in view of the consequences. All printing in France was subject to bureaucratic censorship. Turgot often used aliases and also urged writers not to mention his
authorship ever. From textual evidence,
we know Smith used similar expressions from Turgot’s main published work in
later editions, after the first edition of WN in 1776, and long after passages reproduced
in WN from his Lectures in Jurisprudence, 1762-63. Turgot had many ideas in advance of anybody else though he sometimes appeared to be quasi-Physiocratic.

Sunday, July 29, 2012

Against the Invisible-Hand Only If It Gets Us Contracts

“In an interview
with China Daily, Aeroe - whose organization is tasked with helping small
business in developing and transition-economy countries - said the Chinese
government's very visible hand on the economy, is working better than the
international market's often invisible, more natural influences in helping
companies here build their competitiveness around the world, and change their
image. "In my opinion, there is no invisible hand (in an
economy). "It doesn't exist. For a well-functioning market, it is amazing
how many intelligent policies are needed," Aeroe said. He said that the
government's tackling of issues "simultaneously from industrial
development to education to infrastructure to urbanization" has been well
planned and delivered, and in contrast to many Western economies, China's
evolution is being handled with "long-term vision" in mind, not
short-term gain.”

Comment

When I read this
post earlier today, I thought that the challenge to the myth of the “invisible
hand” had reached mainland China.This would be good news, but my rising euphoria was quickly tempered by
reading and noting who said this and what his reasoning may be.

“But
after several visits to China, Anders Aeroe - a senior director of the World
Trade Organization-linked International Trade Centre - says that he thinks the
country remains firmly on track to successfully transform its manufacturing-led
growth model of the past 20 to 30 years, into a more sophisticated economy, led
by innovation and services.

In
an interview with China Daily, Aeroe - whose organization is tasked with
helping small business in developing and transition-economy countries - said
the Chinese government's very visible hand on the economy, is working better
than the international market's often invisible, more natural influences in helping
companies here build their competitiveness around the world, and change their
image.”

Comment

Call
me cynical but can you spot what caused my excitement to cool?Look at the clues:

Touting
for business in China is not easy.Especially when you represent a “organization … tasked with helping
small business in developing and transition-economy countries”.

Yes,
he’s selling consultancy services to small businesses to help them in
“developing and transition economies”, which is almost a perfect fit China – a “transition-economy” country if ever there was one.And one that has a state bureaucracy, via its national and
regional power centres, “tasked” by the political regime to carry out that
transition.

The
interview in China Daily is a PR job.Bureaucrats reading the piece, if they are unaware of Anders
Aeroe’s visit, may seek him out, as might small ambitious business enquire of
the echelons of the State with which they are familiar.

Anders
Aeroe covers a political requirement – not mandatory but always helpful – he
does not criticize anybody.He
also praises what China is doing, hence does not threaten regime solidarity:

He
said that the government's tackling of issues simultaneously from
industrial development to education to infrastructure to urbanization "has
been well planned and delivered, and in contrast to many Western economies,
China's evolution is being handled with "long-term vision" in mind,
not short-term gain. He said the "interplay between politics and economics"
in China has played a hugely beneficial part in changing that business and
economic model, and also reported that during his tour of the country he was
enormously impressed by the number and standard of business graduates from
universities. "The interplay ... has certain advantages and allows China
to do certain things and help it move faster on its development path, which I
don't think has been seen in any places elsewhere in history," he said.”

Now
if that does not get him a banquet or two he is not trying.I am Aeroe does know what he is doing;
after all he “heads the ITC's key market development division”, for which China is a
clear priority target, and he has to be good at his job to hold that portfolio.

It seems we shall have to wait a little longer for the penny to drop in
China that there is no “invisible hand” in a market economy in China or anywhere else; it is a fiction
pushed by economists sympathetic to bigger business when we were under threat from Soviet Russia, as you once were too, to win over our State bureaucrats in market economies to
the importance of leaving the market to bigger businesses.In China the story is inverted: use our
business special skills to improve what your bureaucrats are doing without an “invisible hand”.

Danielwrites: “I don't see how you can read Smith as
implying some optimal general equilibrium. Smith argues that by pursuing
private interests, economic agents promote general welfare. This is obviously
true whether a "perfect" Arrow-Debreu general equilibrium holds or
not. Identifying the two with each other is a mistake. The contribution of
Arrow-Debreu was to rigorously demonstrate the general equilibrium outcomes of
a certain type of model of the market that is (rightly) widely in use. Any
departure from that optimum ought not to be confused with a non-existence of
the invisible hand forces that Smith referred to.”

Comment

The fact is that Smith's specific (only) reference in Wealth Of Nations
referred to some, but not all merchants, from their concerns for the
"security" of the capital if sent abroad in the "foreign trade
of consumption", preferred to invest in "domestic industry"
(mentioned four times by Smith, twice in the relevant sentence in para 9).Their 'insecurity" led them ti invest domestically and his had the "unintended"
consequence that it added to domestic "revenue and employment" arithmetically:
the whole is the sum of its parts.Smith considered this a public benefit. He didn't say anything beyond
this.It said similar consequences
applied in "many other" situations, without specifying them.

To suggest that this is a general unintended consequence of
self-interested actions, leading to "Pareto Optima", "General
Equilibrium", as many modern economists do, or that even
"selfish" motives lead likewise, is an absurd attribution to Adam
Smith.He details again and again
how the "self-interested" actions of "merchants and
manufacturers" lead to higher prices, less competition, and lower domestic
employment in such “self-interested" policies as tariffs, protections,
prohibitions, monopolists, colonial preferences, the one-sided Combination
Acts, the Settlement Acts, Wages set by the magistrate allies of employers,
established religions, Primogeniture, Entails, chartered Trading Companies, all
of which self-interestes actions directly act against the general interest,Yet, daily - nay hourly - modern economists are reported,
and media sources, continue to pour out nonsense about the existence of an
invisible hand in, variously, the market, price systems, supply and demand, and
so on.

That lay-people come to believe in such a fictitious "invisible
hand" - let alone that credible figures from our ranks of economists also
believe it - though cracks are appearing in the former monolithic consensus
sparked of by Paul Samuelson from 1948 - is disappointing.

I look forward to their recantations of their apparent belief in the
fiction of Adam Smith's so-called invisible hand.

Gavin

PS: I posted my reply and afterwards,when preparing my post for Lost Legacy, I realised I had mistaken the thrust of Daniel's original post. The above is edited to make clear that I am criticising the thrust of modern economists, not Daniel's posted comments.

Thursday, July 26, 2012

Is Nobody Ashamed?

“Our Insatiable Gorilla is actually a metaphor
for something far more profound, that Gorilla is the all-almighty Invisible
Hand of capitalism that Adam Smith deified in his works on “The Theory of Moral
Sentiments” and “The Wealth of Nations.”

Yes, the Insatiable
Gorilla we all know is the mysteriously cryptic Invisible Hand guiding
capitalism in the new century:”

Comment

This particular
piece of nonsense was destined for the next group of Loony Tunes to be posted, until I read
further and found it referred to a speech by the President at a Morgan Stanley get together, where apparently the theme of
the President’s speech was how “Working at Morgan Stanley” is like making love
to a gorilla,” He was I assume only half joking.

The rest is too tiresome to repeat.What a state modern economics is in when it leads to such silly comments
from a major banking institution, presumably in charge of billions of dollars
of investment upon which millions of jobs rely.Let along the overall prosperity of US capitalism.

And this nonsense is laid at the door of Adam Smith, encouraged by my
colleagues giving it intellectual respectability!Are none of them ashamed even just a little at what they
have done since 1948 to spread this direct falsification of Adam Smith’s life
work?And not just the
neoclassical school is culpable, but also Hayek, et al, and assorted Austrians too.Even Heterodox economists join the consensus
spread the nonsense as well.

Give Credit Where Credit is Due

Doug Brady reports that Adam Gropnik in the New Yorker claims that ”that Adam Smith would have had no
trouble with Barack Obama’s recent remarks about how the existence of public
roads nullifies the significance of individual accomplishment and justifies the
administrative state.”

I noted this piece
in a “Conservatives 4 Palin” Blog post HEREThe piece originates from Yuval Levin
in National ReviewHERE

Yuval Levin
continues:

“Count me a skeptic.
Gopnik is certainly right to say that Smith believed that markets were created
and sustained by public policy, and that building infrastructure is an
important public purpose which government should pursue. Everyone else believes
that too. Obama’s assertion that his opponents disagree with that is
preposterous. But as Gopnik also notes, Smith was an ardent critic of what we
today would call crony capitalism. His case for the approach he lays out in The
Wealth of Nations begins from a critique of the then-reigning economic approach
known as mercantilism, under which each of the European powers set market rules
that served the interests of a few large domestic manufacturers and trading
companies that worked closely with the government—putting economic policy in
the service of what they took to be the national interest, in order to advance
the nation’s trading position. Smith argued that legislators should instead
govern the market in the interest of the common consumer, and that the interest
of that consumer would be best served by intense, open competition among
producers that did not privilege large and well-connected businesses over smaller
and newer rivals.

Crony
capitalism—and a preference for a few large companies in each part of the
economy that will function as agents of the government and be rewarded and
protected accordingly—is the core of the Obama administration’s approach to the
economy. It’s the essence of Obamacare and Dodd-Frank, for instance. And it is
decidedly not about open competition in the service of the common consumer’s
interest. You can name your new agencies consumer protection bureaus all you
like, what they’re doing is making the economy more consolidated and easily
manageable from the center, rejecting competitive enterprises in favor of
public utilities. That’s basically the opposite of Smith’s vision.”

Comment

I agree with Yuval
Levin and I acknowledge Doug Brady’s role in bringing it to our attention.I think it is a perceptive rebuttal of
the oft-heard view that the state is a natural ally of big business in a
corporate-state relationship.

However, I must
tread carefully here because, as the comments in the National Review on Levin’s
piece show, it is risky to appear to get involved in the mist enveloping the politics of other
countries, of which I do not know much and in which I do not vote.Even mentioning controversial names,
like Mrs Palin or President Obama, in an election year invites trouble from their respective 'enemies'.

My interest,
however, is in what Adam Smith said about these issues.He saw an important role for government
(defence, justice, public works, education of all ages and treating “noxious
diseases”). All these areas of
expenditure would expand as the country’s economy and the political
requirements of the growing population increased, as we know happened.Where and how much the state’s
responsibilities would expand is, and remains, a prime political question,
i.e., controversial. Currently, we face a problem where expansion of the
states has been fueled by borrowing beyond the creditors’ willingness, or
capacity, to fund their ever-increasing borrowing.

But the point
remains that Smith was not antagonistic to state spending, nor was he in favour
of a “night watchman state”.Such
choices were open to the will of the legislature (not the King’s alone).He was critical of politicians who
though they knew best what people, or the economy, wanted or required, and of those who influenced them and who pursued narrow
sectional interests (in his day, those of landed interests or of “merchants
and manufacturers).

Wednesday, July 25, 2012

Amartya Sen on Mathematics

he
reports an interview of Amartya Sen by Olaf Storbeck and Dorit Hess on the state of modern
economics from 24 July.

Among the
topics discussed by Sen he comments on the role of mathematics in economics in
a far more positive slant than I often give it on Lost Legacy.

While I
accept that mathematics is a useful gateway for students to gain admission to
an economics degree course at Harvard, Cambridge, Oxford, etc., I question its
overly prominent role for mathematics in economics theory and practice.

Statistics,
yes, and perhapsthere is a role
for elementary maths to assist reasoning, but rigorous higher maths?I am less sure, especially when the
maths take over and the economics becomse divorced from any resemblance with
reality.

If
economists cannot distinguish between a philosophical assumption of
self-interest of an individual and miss the absolute requirement of Smith's assumption that the postulated
self-interest of an individual requires to be mediated by concerns for, and
attention to, the self-interests of others, as is the clear case with modern
treatments of Adam Smith’s elementary example of bargaining with the “butcher, brewer, baker” example, then I worry about the conclusions drawn by mathematical economists that Smith somehow postulated that self-interested individuals pursuing their narrow self-interests (tariffs, monopolies, pollution and such like) somehow leads to general pubic benefits, as asserted in the usual attribution to Smith's "invisible hand". Such reasoning is an absurdity from which competence in maths does not save them

I suggest
readers visit Lars P. Syll’s Blog and read it regularly. It is thought provoking.

Tuesday, July 24, 2012

The Delusions of Utopia

Gerrit Wiesmann and Chris Bryant write in The
Financial Times about Berthold Huber, the head of Germany’s huge carworkers’
union, IG Metall. HERE

“A German union of dogma and pragmatism”

“The global crisis destroyed the intellectual foundation of the “recent
type of shareholder-capitalism”, he says with quiet intensity. “No one believes
in the selflessness of self-interest any more, in the invisible hand of the
market, though to reduce Adam Smith to that is wrong.”

After some seconds of silence, he adds: “He was a highly moral person. I
know, because I’m one of the few people to have read all of him.” …

He says that the performance of communism in East Germany compared to the
performances of capitalism as far as the living standards and employment
conditions of workers made a lasting impression on his outlook as a trade union
leaders.

“That’s what finally convinced me one has to deal with real problems.
It can’t be about forcing Utopias into existence, it has to be about shaping
real life.”

Comment

I can concur with Berthold Huber’s observation from my limited
experience of visits to East Germany in the early 1980s, and my comparatively
more numerous trips to West Germany from the 1970s. Visions of so-called utopias, be they economic,
political or religious, are mainly delusionary and they can sometimes be dangerous
too.

I am pleased that Berthold Huber is wide-awake to the myth of “the invisible hand
of the market” and what appears to be its supposed relationship to the “selflessness
of self-interest”.

Now, why are we lumbered in Britain with trade union leaders imbued with
a passion for Marxist-Trotskyist delusions about a coming revolutionary utopia leading to a better kind of socialist utopia than the one already failed in
East Germany?

Monday, July 23, 2012

American Thinker, Not Thinking?

“Which
'invisible hand' do we prefer? The one referred to by Adam Smith and
Milton Friedman? A 'hand' that acts as people act for themselves?
An arrangement in which individuals, in an effort to improve themselves
financially, provide goods and services or improve goods and services, to the
betterment of all. Or, another type of 'invisible hand' ? One
which is in your pocket and extracts money for use by the government, as the
government sees fit?”

Comment

As a
populist statement of the benefits of markets “to provide good and services or
improve goods and services, to the betterment of all” over government taxation
for political purposes that may not be beneficial to tax payers it seems a no
brainer.

However, it
misses important realities of life experienced by all of us (and observed by
Adam Smith in the Eighteenth century too).This description by Bruce Johnson, written in good faith I
have no doubt, makes no mention of Smith’s other, equally valid, observations
that some, but not all, individuals who provide goods and services, do not
always do so for the “benefit of all”, or indeed anybody but themselves and the
minority who purchase them.

These less
positive facts of experience should also be weighed in the balance, otherwise
Bruce Johnson (and Milton Friedman) might be found wanting and called to account for discrediting
the thrust of their better points.Adam Smith pulled no punches in highlighting how some, but not all,
merchants behaved well short of the ideal asserted by Bruce Johnson, and less
blatantly by Milton Friedman.

Consider
the behaviours of those “merchants and manufacturers” in Wealth Of Nations who clamoured loudly for
tariff protection, even prohibitions,against imports from rivals. Such agitation was
not aimed at “the betterment of all”.It was cynically aimed at the “betterment” of the individuals who
“provide[d] good and services or improve goods and services” for higher prices
because competitive imports were curtailed or excluded altogether. Such
producer of goods and services used governments (from their politicking with legislatures)
to fix markets against the interests of consumers.They manipulate markets to “extract money for” their own
benefit and not for the benefit of their customers.

Worse
still, they decry government taxation for political ends with which they and we may not
sympathise, but they and their lobbyists also use governments to legislate against competition to the
detriment of consumers.

On this
occasion, American Thinker is not thinking.Adam Smith was not impressed by such behaviour.Neither are we. They

discredit the case for markets where possible and government where necessary.

Adam Smith's Morals

“There used to be a
belief among superficial readers of Adam Smith, prophet of free trade, that the
market economy did not depend on morality at all: “It is not from the
benevolence of the butcher, the brewer, or the baker that we expect our dinner,
but from their regard to their own interest.” It was the brilliance of the
system that it turned self-interest into the common good by what Smith called,
almost mystically, an “invisible hand.” Morality was not part of the system. It
was unnecessary.

This was a
misreading of Smith, who took morality very seriously indeed and wrote a book
called The Theory of Moral Sentiments.
But it was also a misreading of economics. This was made clear, two
centuries later, by a paradox in Games Theory known as The Prisoner’s Dilemma.
Without going into details, this imagined two people faced with a choice (to
stay silent, confess or accuse the other). The outcome of their decision would
depend on what the other person did, and this could not be known in advance. It
can be shown that if both people act rationally in their own interest, they
will produce an outcome that is bad for both of them. This seems to refute the
basic premise of market economics, that the pursuit of self-interest serves the
common good.

The negative outcome
of the Prisoner’s Dilemma can only be avoided if the two people repeatedly find
themselves in the same situation. Eventually they realise they are harming one
another and themselves. They learn to co-operate, which they can only do if
they trust one another, and they will only do this if the other has earned that
trust by acting honestly and with integrity.

In
other words, the market economy
depends on moral virtues that are not themselves produced by the market, and
may be undermined by the market itself. For if the market is about the
pursuit of profit, and if we can gain at other people’s expense, then the
pursuit of profit will lead, first to shady practices (“your silver has become
dross, your choice wine is diluted with water”), then to the breakdown of
trust, then to the collapse of the market itself.”

Comment

Arguing
with a distinguished religious scholar is not something I do regularly (though
I commented last week on something Lord Sachs wrote) but he strikes me as a
person with which one can discuss differences without rancour.

He
certainly knows more about Jewish theology than I do, given that what little I
do know came from a Presbyterian upbringing that included fair slices of the
Old Testament (I know even less of Islam). Hiowever, Lord Sachs demonstrates
knowledge of economics, including Games Theory, and I am qualified to take
issue with him on that which he demonstrates, in the quotation above.

On
his broad theme that morality and market behaviours are important – perhaps
decisive – I entirely agree with Lord Sachs.I am not so inclined to agree with his interpretations of
Adam Smith in Wealth Of Nations and of more recent ideas such as Prisoner’s
Dilemma.In both cases, with
respect, I suggest he has missed the moral point.

First
take the now famous, and as widely misunderstood, reference of Adam Smith to: “It
is not from the benevolence of the butcher, the brewer, or the baker that we
expect our dinner, but from their regard to their own interest.” Humans in no economic or social system
has ever been able to survive on the total benevolence of other people
alone.That is an impossible
aspiration, dare I say, this side of heaven.

Whereas
God, by theological assumption, has all the resources of the world, indeed of the universe, at his disposal
and therefore could be benevolent in the extreme towards all living creatures and
still have resources to spare, no humans have access each day of their lives to
supply everybody’s else’s human needs – somebody has to labour to acquire
whatever resources are needed for her (since the expulsion from the Eden Garden) to
benevolently dispose of a proportion of them to satisfy everybody else’s needs.This is not a particular moral failing of
today; it’s been a fact of life since Genesis (in theological terms).

The
moral issue comes down to how resources are distributed for our dinners.Why do “butchers, brewers, and
bakers” enter into Adam Smith’s equation?Because, he opined, it was in their self-interest to do so.He advised those searching for the
wherewithal for their dinners to enter into a dialogue (not a one-sided monologue!) with
those whose self-interest brought them into consideration by those searching
for their dinners in their own self-interests.

How
is this dialogue to be conducted?Smith advised potential diners not to “talk of their own necessities”
but to “address the self-interests of the “butcher, brewer and baker” (and, of
course, vice versa).This point
seems to have escaped the attention of Lord Sachs and all those many others who
draw the same wrong moral conclusion.

Self-interest is not a license to be “selfish” or “greedy”.Far from it.It
is an admonition to serve our own self-interests by mediating with the
self-interests of the “butcher, brewer and baker”.In this, each of us becomes a merchant.

In short (Smith’s
previous paragraph), the nature of each bargain is summed by the expression “Give
me this that I want and you shall have that which you want”.(In modern negotiating, I express this
as “IF you do this for me, THEN I shall do that for you”). The exact contents
of each such bargained dialogue is determined by how each party adjusts his own
self-interest to the other party’s self-interest.That is a very moral proposition.Two egoistic self-interested demanders, uninterested in the
self-interests of each other would never reach an agreement. That was the moral
and pragmatic point of Smith’s parable. Morality was part of the system. It was
absolutely necessary.

On Prisoner’s
Dilemma, I am not sure that Lord Sachs has got this post-War theorem (1950) correctly
formulated, though, of course, it was not an idea considered by Adam Smith 174
years earlier (1776).The two
prisoners were offered a deal to chose separately without consultation among:
both confess (10 years each in jail); one confessed but the other didn’t (the
confessor serves 20 years, the silent one, goes free, there not being enough
evidence to convict him); both stay silent (both go free).What do they each do
individually?It depends on what
they think their partner will do!

Having supervised
real-world negotiators thousands of times playing single-shot and multi-shot
Prisoner’s Dilemma games, I can concur that most pairs were stumped at playing
what was in their best interests as pairs.They either ended up serving 10 years each or one serving 20
years and the other going free.Very few chose the option that meant they both went free, mainly because
they did not trust the other to choose not to confess.But note that law observance in
society, gained from one or both serving prison terms.However, consider if they was a
trustworthy ‘honour among thieves’, and they both chose to ‘not confess’, society
would not have benefitted and their criminal immorality would have been
rewarded.(I have not the space to
discuss this further in respect of observing many thousands of plays of the ‘Red-Blue’
game – perhaps another time?). But the gist of the moral conclusions of
Prisoner’s Dilemma game illustrates the conflict between personal morality and
the healthy morality of society.

Lastly, I have not
commented on Lord Sachs’s remarks about the attribution of a moral role to the “invisible
hand”: Lord Sach’s writes ”It was the brilliance of the system that it turned
self-interest into the common good by what Smith called, almost mystically, an “invisible
hand.”Regular posts on Lost
Legacy challenge this attribution to Adam Smith, so I shall not repeats them
here.Lord Sachs can cast his eye
over many posts on the subject. Suffice to say, Adam Smith had no such ideas as
expressed by many modern economists and there was nothing “mystical” in his use
of the popular 17-18TH century metaphor.That there was is an wholly modern invention from Paul Samuelson (1948)
and others.

As long as we cannot show, except under
exceedingly special assumptions, that there are convincing reasons to
suppose there are forces which lead economies to equilibria - the value of
general equilibrium theory is nil. As long as we can not really
demonstrate that there are forces operating – under reasonable, relevant and at
least mildly realistic conditions – at moving markets to equilibria, there can
not really be any sustainable reason for anyone to pay any interest or
attention to this theory.

A stability that can only be proved by
assuming “Santa Claus” conditions is of no avail. Most people do not believe in
Santa Claus anymore. And for good reasons. Santa Claus is for kids, and general
equilibrium economists ought to grow up, leaving their Santa Claus economics in
the dustbin of history.

Continuing to
model a world full of agents behaving as economists – “often wrong, but never
uncertain” – and still not being able to show that the system under reasonable
assumptions converges to equilibrium (or simply assume"

Comment

I am inclined to agree with the above
comment/review by Lars Sylls, from his Blog and with the reported skepticism of
Franklin M. Fisher
about the value of theories of general equilibrium as taught in neoclassical
economics departments. The relatively simple maths (to physics majors) of
economics allegedly ‘prove’ to social science majors at least that economics is
a hard science and worthy of the admiration of real scientists.It certainly can be hard for less
numerate students but whether it is a real science is another matter. There are
reports of physicists smiling indulgently at such claims by some economists.

Mathematically minded economists, in my
experience seldom indulge their fellow economists who prefer to study the real
world rather than the imaginary world of general equilibrium.Adam Smith, no mean mathematician
himself – it was his favourite subject at Glasgow University and afterwards –
studiously avoided applying his mathematical skills to his treatment of
political economy. Hence he did not make presumptions about aspects of general equilibrium
applying to his approach to Wealth Of Nations.

Franklin M. Fisher appears to agree
coming at general equilibrium from another angle – it is disconnectedfrom the real
economy. Lars P. Sylls also seems to be skeptical of its value too. So do I.

Friday, July 20, 2012

Falsehoods No Guide to Adam Smith

Micah
Murphy speaks of “falsehoods” undermining empires but commits (unintentionally, I'm sure) a falsehood about
Adam Smith while doing so in a post in ‘Truth and Charity’ HERE

“The
Hersey of President Obama”

“Adam Smith, for all
the good his thought may have done, believed that it was man’s greed and
self-love that should drive the economy.”

Comment

The Adam Smith who
was born in Kirkcaldy in 1723, as opposed to the invented “Adam Smith”, lauded by some modern economists at Chicago University in the 1930s, did not
articulate “beliefs that it was man’s greed and self-love that should drive the
economy” (see Paul Samuelson’s account in Economics: and introductory analysis,
p 36, 1948)

The Adam Smith who
wrote Moral Sentiments and Wealth Of Nations spent considerable efforts to
dissuade readers from accepting the writings of Bernard Mandeville (‘Fable of
the Bees’, 1724) in praise of selfishness, which he described as “licentious”.Mica also may be confusing Ayn Rand and her sympathy with “selfishness”
with Adam Smith’s philosophy of self-interest as a driver of behaviour (a
common mistake of modern commentators).

Adam Smith’s
self-interest theory was clearly constructive when it was mediated by concern for the
self-interests of others as specified, foe example in “the butcher, brewer, and baker” example in Wealth Of
Nations. Two egoistic self-interested neighbours would never agree to anything.